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State Name: New Jersey
State Name underscore: New_Jersey
State Name dash: New-Jersey
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State Name lower: new jersey
State Abbreviation: NJ
State Abbreviation Lower: nj

If you've been following the MBS Commentary, you know what a big deal this afternoon could be. Markets have been preparing for it for weeks and MBS Live members have been on top of those movements every step of the way.

This afternoon, when markets are convulsing mere milliseconds after the Fed Announcement, MBS Live members will know what's going on before anyone else. The accuracy and speed of our real-time price stream and alerts is unmatched.

The relationship between short and long term yields is an important indicator for bond markets and the broader economy. 10yr yields are almost always higher than 2yr yields, but when they become much closer together, or when 2yr yields actually rise above 10yr yields, conventional wisdom holds that recession is in store.

With 10's trading around 1.75 and 2's around 0.8, we're nowhere close to a so-called "inverted yield curve," but the gap has grown relentlessly narrower since the beginning of 2014. Any time the yield curve is narrowing this much, and especially when it's breaking below 1% (as it is now), investors begin wondering how far away the next recession might be.

This yield curve flattening is the first warning in the short term bond market, and one that's worked largely to the advantage of longer term rates. After all, impending recessions generally aren't good for long term rates. A tightening yield curve has also been consistent with falling longer term yields over the past few years.

The second warning cuts the opposite direction. It stems from the fact that a 10yr yields don't historically track the shape of the yield curve like they have been in the chart above. In fact, the "QE era" beginning in 2009 is the only great example of such a strong correlation. It requires a combination of an uncertain economic outlook along with central bank policies that keep short term rates depressed. In other words, if 2yr yields are held near zero (as they had been for the past 5 years, the yield curve (relationship between 2s and 10s) will correlate almost perfectly with 10yr yields because 10yr yields are the only thing moving.

Now that 2's are moving again, the risk is that further upward movement can create upward pressure for 10yr yields as well. This has always been the case in the past, although ahead of recessions the impact of rising 2yr yields is limited (obviously, if they've actually risen to higher yields than 10's). Still, from a shorter-term standpoint, we may have just witnessed a mere correction in the trajectory of 2yr yields following the December rate hike.

In other words, 2yr yields spiked higher than their previous trend would suggest and the first part of 2016 runs the risk of merely being the time when 2yr yields returned to that trend. If that's the case AND, importantly, if we're not on the doorstep of a recession (a big "if," depending whom you ask), that upward pressure can still translate to upward pressure on longer-term rates like 10's and mortgages. If it does, the following chart is a bit scary.

Of course the bullish case for rates is that the world is screwed, economically, and that these historical correlations tend to break down at such times. Central bank QE (in Europe, particularly) has already led to such a breakdown in 2014 (the year the world priced in the ECB QE that was ultimately enacted at the beginning of 2015). At this point though, it takes more QE to keep the traditional correlation from presenting challenges for the 2016 rally.

With all of the above in mind, anticipation over next week's ECB announcement could overshadow domestic economic data this week, to some extent. Don't expect markets to completely tune out though. This is the biggest week of any given month, with the ISM manufacturing and non manufacturing reports, as well as ADP Wednesday and NFP Friday.

MBS Pricing Snapshot

Pricing shown below is delayed, please note the timestamp at the bottom. Real time pricing is available via MBS Live.

MBS

FNMA 3.0

102-14 : +0-02

Treasuries

10 YR

1.7550 : -0.0090

Pricing as of 2/29/16 9:10AMEST

Tomorrow's Economic Calendar

Time

Event

Period

Forecast

Prior

Monday, Feb 29

9:45

Chicago PMI *

Feb

53.0

55.6

Tuesday, Mar 01

10:00

ISM Manufacturing PMI *

Feb

48.5

48.2

10:00

Construction spending (%)*

Jan

0.3

0.1

Wednesday, Mar 02

7:00

Mortgage Market Index

w/e

521.5

8:15

ADP National Employment (k)*

Feb

190

205

9:45

ISM-New York index *

Feb

718.9

Thursday, Mar 03

8:30

Labor Costs Revised (%)

Q4

4.6

4.5

8:30

Productivity Revised (%)

Q4

-3.2

-3.0

8:30

Jobless claims 4-wk avg (k)*

w/e

272.00

10:00

ISM N-Mfg Bus Act *

Feb

54.0

53.9

10:00

ISM N-Mfg PMI *

Feb

53.1

53.5

Friday, Mar 04

8:30

Non-farm payrolls (k)*

Feb

195

151

8:30

International trade mm $ (bl)*

Jan

-44.0

-43.4

8:30

Private Payrolls (k)*

Feb

185

158

8:30

Average workweek hrs (hr)*

Feb

34.6

34.6

8:30

Manufacturing payrolls (k)*

Feb

0

29

8:30

Unemployment rate mm (%)*

Feb

4.9

4.9

8:30

Average earnings mm (%)

Feb

0.2

0.5

About the Author

A former originator, Matthew began writing for Mortgage News Daily in 2007, covering a wide range of topics. Seeing a need in the marketplace, his focus increasingly shifted toward relating MBS and broader financial markets for loan originators.
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